Stock-Split Tracking: The Next ServiceNow?

Stock splits generally mean good things are happening for the company and investors are happy. Enterprise software company Service Now (NOW 1.16%) fits this description. Shares have appreciated more than 3,400% since the company went public in 2012, miles above what S&P 500 he did at the same time. Now trading at over $880 per share, this market could be primed for its first stock split.

Investors generally encourage stock splits and can attract new buyers to the stock. Here’s why ServiceNow could soon split its stock and whether investors should buy before that happens.

The scoop on the stock splits

On the surface, a stock split lowers a company’s stock price by proportionally increasing the number of shares.

Let’s say you have 10 shares of a company trading at $100 per share. You would have $1,000. If the company executes a 2-for-1 stock split, you now have a total of 20 shares trading at $50 each. Notice how your stake is still worth $1,000, but now there are more shares at a lower price.

Stock splits help investors and company employees. Many investors would rather own 100 shares of the company than just a few. However, most retail investors do not have the funds to buy many stocks for hundreds of dollars each. So the split has a psychological benefit that could attract more investment in the company.

It’s more about liquidity for the company’s employees who receive stock-based compensation. Long-term employees may have large amounts tied up in company stock, so a split increases their share count, making it easier for them to control how many shares they sell at a time when they cash out.

Why ServiceNow May Split Its Stock Soon

As I said, stock splits generally occur after sustained success increases a company’s value enough for a split to make sense. ServiceNow appreciated more than 3,400% to nearly $900 per share and entered potential stock split territory. And it hasn’t split its stock since going public, meaning many employees likely have large amounts tied up in the stock.

A stock split could happen soon as the company’s strong outlook signals more investment returns, which will only send the stock price up faster as the numbers grow. In other words, an $80 stock and an $800 stock can both rise 20%, but the move from $800 to $960 appears more than the move from $80 to $96.

ServiceNow sells digital transformation software that helps companies streamline their data and automate tasks and processes as they modernize. It can transform inefficient, fragmented operations into fast, optimized and simplified operations.

NOW revenue (TTM), data by YCharts; TTM = last 12 months.

ServiceNow has more than 8,100 customers worldwide and is growing sales by more than 22% year-over-year as it approaches $10 billion in annual revenue. The business is very profitable, with strong earnings growth and a fortress-like balance sheet with about $4 billion in net cash (total cash minus debt).

Given its robust financials and strong growth momentum, I don’t think it’s a stretch to say that the stock will continue to rise over time, assuming it continues to perform as it has for years.

Are stocks bought today?

Because a stock split does not affect a company’s value, investors should never buy or sell stock based solely on a split.

Instead, compare the stock’s value to the company’s growth potential and see if there is good momentum. Today, ServiceNow trades at 63 times estimated 2024 earnings, a significant premium to the broader stock market.

However, analysts expect the company to grow earnings by an average of 32% annually over the next three to five years.

A price-to-earnings (P/E) ratio of two times a company’s expected earnings growth is reasonable, especially given ServiceNow’s financial profile. Simply put, it’s a high-quality, growing company, something Wall Street doesn’t mind paying a little more for.

ServiceNow isn’t a business, but its reasonable price should mean the business will grow more in stock valuation over the coming years, making it a worthwhile investment idea today.